History of Future and Trading

Meaning of Future and Option (F&O) Trading or Contract

A future is a derivative contract in which two parties agree to buy or sell something to each other in standardized form at a pre-specified price some time in the future. Here, delivery is not immediate; it is at a much later date. And payment is also not immediate, it is at a later date, coming in the form of a "forward contract".

Future contract comes under the category of pre-agreed contract, where the buyer MUST sell and the seller MUST purchase the underlying item. Once they sign the contract, the contract has to be marked to market every day, they have to pay the margin and they have to square off, marking an OBLIGATION to square-off the deal.

Option contract comes as an alternative to future dealers to make more profits and fewer losses. It is a kind of derivative contract, which gives the holder, the option to buy or sell the underlying at a pre-specified price some time in the future. An option to buy the underlying is known as a Call Option whereas an option to sell the underlying at a specified price in the future is known as Put Option.

The buyer of an Option has the RIGHT, but not the obligation, to exercise the contract. and it can be traded on the stock exchange or on the OTC market

Collectively, in F&O, there is no commodity and so the question of holding any shares does not exist.

History of Future and Option (F&O) Trading

Some texts show the presence of the characteristics of F&O or derivative contracts in incidents of Mahabharata and even in incidents that date back to the ages before Jesus Christ.

Existence in Japan

The first recorded instance of futures trading occurred with Yodoya rice market in Osaka, Japan, in the 17th Century. There may also have been rice futures traded in China as long as 6,000 years ago.

The advent of derivatives trading is a natural outgrowth of the problems faced by farmers in maintaining a year-round supply of seasonal products like agricultural crops.

Previously, merchants used to store rice in warehouses for future utilization and to raise cash and in respond to this, warehouse holders sold receipts against the stored rice, known as "rice tickets". Later, the receipts became accepted as a kind of general commercial currency. Some rules came to standardize the trading in rice tickets, similar to the current rules of American futures trading.

Existence in the United States

In the U.S., derivatives trading started in the grain markets in the middle of the 19th Century. The Chicago Board of Trade (CBOT), the largest derivative exchange in the world, was established in 1848 where forward contracts on various commodities were standardized around 1865. The New York Coffee, Cotton and Produce Exchanges were born in the 1870s and 1880s.Today, there are ten commodity exchanges including some largest like the Chicago Board of Trade, The Chicago Mercantile Exchange, the New York Mercantile Exchange, the New York Commodity Exchange, and the New York Coffee, Sugar and Cocoa Exchange.

Some major futures trading exchanges were established in over twenty countries in the world including Canada, England, France, Singapore, Japan, Australia, and New Zealand. The products traded range from agricultural staples like Corn and Wheat to Red Beans and Rubber traded in Japan.

The biggest increase in derivatives trading activity happened in the 1970s when futures on financial instruments started trading in Chicago. Foreign currencies such as the Swiss Franc and the Japanese Yen were first. Futures began trading in the 1980s on stock market indexes such as the S&P 500.

An agency named as the Commodity Futures Trading Commission from the Department of Agriculture regulated the futures trading including the futures exchanges, brokerage firms, money managers, and commodity advisors.

Existence in India

As said earlier, derivatives have had a long presence in India since the time of Mahabharata. The commodity derivative market has been functioning since the 19th century with organized trading in cotton through the establishment of Cotton Trade Association in 1875.

In June 2000, exchange-traded financial derivatives were introduced at the two major stock exchanges, NSE and BSE. There are various contracts currently traded on these exchanges. The National Commodity & Derivatives Exchange Limited (NCDEX) started its operations in December 2003, to provide a platform for commodities trading.

Exponential growth of the derivatives market, especially at NSE, has been found in India. After having a good trading history of more than two to three years, it is observed that the number of stocks trading in the Indian F&O markets has more than doubled. Even recently listed stocks with no price history such as Everest Kanto Cylinder, Parsvnath Developers, and Reliance Natural Resources are included in the F&O segment.